Public goods provide benefits to many people all at the same time, regardless of whether the person(s) benefiting has (have) contributed to pay for the cost of provision. Examples include, but are not limited to, the aesthetic value of biodiversity such as birds for bird watchers, the benefits of pollution control to improve air or water quality or reduce carbon emissions, value of open space view-sheds, the restoration of wetlands for aesthetic value, or the broader, public good benefits of education programs. In contrast, private goods are familiar products that individuals buy and use where the buyer is the only person to benefit from one unit of consumption and the seller is able to control who can benefit from the good. Private goods are common, for example, in grocery stores. For private goods, the individual pays a price closely related to their personal evaluation of the benefits of ownership and consumption and competitive markets balance the price with the cost of delivery, allowing producers to profit; this private-good market process leads to everyone paying the same price (economists' law of one price). In contrast, even if individuals voluntarily pay to provide public goods, because many other people might attempt to ‘free ride’ on the payments of other people, the producer is typically unable to capture revenues reflecting as much benefit as the public good generates; in fact, since everybody has the opportunity to free-ride, markets typically do not develop for public goods. The process presented here addresses the chronic problem that private enterprise generally can not produce public goods, or cannot produce them at a level that provides the most benefits to society, because producers most often are unable to recover the costs of their production from many (or any) of the beneficiaries.
Around 1920, Swedish economist E. Lindahl noted that economically efficient provision of public goods could be accomplished if individuals would state the value (their willingness to pay) for additional delivery of units of a public good. For example, if an individual values living in a rural community in which farms support grassland nesting birds, that individual might be willing to pay a farmer to add one more ten-acre hayfields to a management plan that protects grassland habitats during the bird's nesting season. In Lindahl's system, each person (each beneficiary) would name their own price to add one more hayfield to the management plan; the farmer would presumably collect these individualized “Lindahl prices” and balance the sum of these payments against the additional costs of managing his or her farm to protect the last hayfield he feels able to maintain for nesting birds.
In Lindahl's theory, then, the providers of public goods (farmers in this example) continue adding units of the public good (additional 10-acre hayfields) until the sum of individualized prices from the community of beneficiaries (people who value the protection of nesting birds in their rural town) just balances against the additional costs to farmers managing (providing) a marginal unit of the public good (a 10-acre hayfield for nesting birds). The farmer's costs include the opportunity costs reflecting a farmer's opportunity to earn a living by providing some other crop.
From the 1920's until the present, economists have held the consensus that there is no approach by which an entrepreneur can get individuals in a community to state their individual, Lindahl-price or willingness to pay for units of a public good; economists have considered the incentives for each individual to “free ride” by waiting for someone else to pay, to be sufficient to block any practical approach. The business process offered here directly establishes a practical approach to elicit these willingness to pay statements from individuals, thereby enabling an entrepreneur or broker to establish individualized prices. While the process does not guarantee the removal of all free-riding incentives, it substantially alters the incentives so that the advantages of a free-riding strategy are reduced, and the entrepreneur is able to generate revenue based on individualized prices that total up to revenues sufficient to cover the costs of providing a public good. In particular, the process allows an entrepreneur or broker to establish a market through which the individualized pricing-process can determine the number of units of the public good that will ultimately be provided; the process goes beyond “one unit, one payment.”
The business process applies to many public goods. For example, the farmer's management of a hayfield for birds could also produce carbon sequestration benefits as newly planted grasslands develop a deep root-zone. Local residents who are concerned about climate change might value making their own local contribution to carbon sequestration. In addition, this root-zone may better capture nitrogen or other nutrients that otherwise enter a local water supply affecting water quality for human uses including local recreation. These carbon or water quality impacts might establish higher values received by the community by changing farm practices, and individuals would include these considerations in their statement of willingness to pay.
(Walter Nicholson's (2005) textbook, Microeconomic Theory: Basic Principles and Extensions, 9th edition, (pages 601-603) summarizes the theoretical principles of E. Lindahl's theoretical suggestions from 1920. However, Nicholson states “Unfortunately, Lindahl's solution is only a conceptual one . . . [as] it is difficult to envision how the information necessary to compute equilibrium Lindahl shares [i.e., prices] might be computed” (p. 602). Lindahl's suggestion assumes reliance on the coercive or taxation power of governments along with a method to elicit truthful valuation from individuals. The process offered here establishes a process to elicit valuations which are more likely to approximate truthful revelations through private enterprise (without government authority). Even with government authority, economists find truthful revelation of value for public goods to be controversial at best, and the authors of the process described here are not aware of any alternatives that compose a practical solution while also generating revenues or actual monetary payments in a manner to achieve the vision proposed by Lindahl in 1920.)
For the purpose of definitions, the following glossary defines conventional economic terms associated with the present invention.
“Public good” is a good or service that provides benefits to many people simultaneously, regardless of whether the individuals who benefit actually pay (under normal circumstances) for the units or “supply” of the public good that exists. Public goods have a nature that prevents those who voluntarily provide the good from requiring payment from beneficiaries through ordinary market transactions (a public good is “non-excludable” meaning providers cannot exclude beneficiaries who did not pay toward the costs of provision). Examples are the aesthetic benefits of wildlife or scenic views, air quality shared by everyone, National Public Radio (benefiting donor-listeners and non-donor-listeners). In contrast a “private good” is one for which a single unit of the good only benefits the single consumer who uses that unit. Examples of private goods are most items sold in grocery stores: the consumer of a glass of milk is the only beneficiary of the nutritional value of that glass of milk. Thus a private good has a nature that enables the provider of the good to exclude those would-be-beneficiaries who have not paid for the cost of provision.
“Induced value experiment” is a method of controlled experimentation used by economists (and pioneered by Vernon Smith, 2002 Nobel Prize in Economics) to test the effects of incentives on choice and behavior. For public goods research, the method simulates the way in which individuals benefit by a public good through a set of monetary payments to individuals that everyone in a group receives if a certain “project” is successfully implemented. The project might be creation of an investment fund that individuals contribute to; if the fund reaches a certain level (a provision point), then everyone in the group (including non-contributors) receives a monetary payoff based on the payoff schedule the researcher has assigned to that individual; the payoff assigned to the individual is that person's “induced value” for a unit or level of the “project.”
“Treatment”—can refer to a collection of incentives established for a set of decisions by individuals participating in an economics experiment. Some treatments are operation versions of the process proposed for patenting and some treatments have value as a basis for comparison, against which performance of the new business process might be measured.
A “Free rider” is any person who has a positive value for a public good project (e.g., protecting bird habitat or sequestering carbon or a program on National Public Radio), where this positive value is reflected in a willingness to pay for the good, but the free rider does not actually pay (or at least does not pay his or her full marginal value) and yet the free rider still receives benefits from the project. For the purposes of this application, “free rider” or “free riding behavior” is meant to include the choice by some individuals to pay or offer to pay (or make a bid to pay) an amount that is less than 100% of their full “willingness to pay” for the good; some economists call this behavior “cheap riding.”
A “Marginal offer” is an offer to pay made by an individual in the auction process, where this offer is to pay a certain amount of money for a particular unit or increment in the public good (e.g., an offer to pay for the 5th hayfield for bird habitat) while knowing that this offer will be used to determine actual payments for all units of the public good, up to that particular unit, according to the rules of the business process.
“Level of units” or “level of provision” is referring to the number of increments of the public good that are under consideration or might be provided. For example, protecting two 10-acre hayfields for nesting birds is one level, while protecting four 10-acre hayfields is another level.
“Willingness to pay” is an economic concept for measuring the benefits or value that an item or action has. The maximum willingness to pay is the highest amount of money that an individual would voluntarily pay to see some action occur or be delivered (e.g., provision of an increment to the public good, like establishing an enforceable contract with a farmer to manage one 10-acre field for nesting birds) rather than doing without that action (e.g., rather than having the farm proceed with business as usual, involving no special consideration of nesting birds).
“Auction” is a process by which individuals make offers to purchase a good or service and an auctioneer, market-maker, or broker applies previously stated rules to determine whether the good is provided and how much individuals who make offers actually have to pay. In the new business process, many people are making offers to purchase the same good; this is essential to the public good problem because payments from many people need to be aggregated to cover the cost of providing each unit of the good. (If one individual has personal values that imply a personal willingness to pay that exceeds the cost of providing a unit of the good, then the public good “problem” would typically be trivial since such individuals might act alone.)
“Marginal unit” is the last unit provided at the end of the auction if the auction is complete. A unit is an increment to the public good being provided (e.g., one 10-acre field for grassland bird habitat could be the unit that is required in order to increase the availability of meaningful bird habitat). If the auction process is still unfolding, then the marginal unit is the one under consideration with respect to the offers being solicited from bidders by the broker/auctioneer or market-maker.
“Infra-marginal units” refers to all units or increments to the public good that are provided prior to the marginal unit. For example, if the marginal unit is the 6th 10-acre field of bird habitat, then the infra-marginal units are fields numbered 1 through 5.
“Provision point” refers to the minimum cost that must be covered in order to provide one or more units of the public good. For example, the provision point would be the amount of money necessary to pay for a contract with a farmer who agrees to alter his farm operations in order to manage a 10-acre hayfield for grassland birds, plus other transaction fees, advertising expenses, costs to monitor the field and assure compliance with the contract, or similar costs.
Clock auction—is an auction process in which a posted clock indicates a deadline for final bids and final decisions. In this case, bidders might be able to revise their bids (according to pre-announced rules) as the time for bidding nears an end.